The Rise of Private Equity in Professional Sports

Year in and out, sports teams embark on rigorous preparations to ensure they are ready for the challenges ahead. This involves meticulous planning, intense training sessions, strategic acquisitions, and a focus on building team chemistry. Champions, however, take it a step further. They analyze every detail, from player performance metrics to opponent strategies, leaving no stone unturned in their quest for excellence. This relentless pursuit of perfection is what sets great teams apart from the rest.

Private equity (PE) investors have adopted a similar approach in the world of professional sports. They don’t just jump into the game; rather they conduct thorough due diligence, identify key opportunities, and develop comprehensive investment strategies. By leveraging their expertise and resources, PE firms aim to transform sports franchises and related businesses into profitable investments, much like how teams strive to beat their competitors. This methodical approach has allowed PE to become a formidable force in the sports industry, driving growth and innovation. But, as many already know, championships are not won overnight.

From the Bleachers to the Field

Over the past two decades, PE firms have been in the gym working to earn their spot on the field. Historically sports teams have been owned by wealthy families or communities, such as our Managing Partner’s favorite team, the Green Bay Packers, who are famously owned by their fans. These ownership models were driven by passion and local pride, with financial returns often taking a backseat to the love of the game. Until the early 2000s, PE firms were like scouts in the bleachers, observing the potential that could be unlocked within the sports industry. The turning point came in 2005 when CVC Capital Partners made a landmark investment by acquiring Formula 1 auto racing for $2 billion. This move signaled the beginning of a new era, opening the flood gates to the previously untapped opportunities in sports for other institutional investors.

Over the years, PE’s involvement in the industry has grown steadily. Initially, investments were limited to a few high-profile deals in European football teams, but the landscape began to change as regulatory frameworks evolved. It wasn’t until 2019 that PE firms were allowed to invest in U.S. professional sports leagues, when Major League Baseball (MLB) began permitting the sale of minority interest stakes up to 30% to these firms. Shortly after, the National Basketball Association (NBA) and Major League Soccer (MLS) joined the starting lineup, opening more ways for institutional capital to flow into the industry.

Today, PE is a pivotal player in sports with firms like Arctos Sports Partners, RedBird Capital Partners, and Sixth Street Partners at the forefront, driving innovation and growth. As of August 2024, PE firms hold minority ownership stakes in teams across the MLB, NBA, MLS, and National Hockey League (NHL) that collectively are estimated to be worth $147.7 billion. Ownership interests are assumed to grow as the need for liquidity and growth capital increases. Furthermore, the recent vote by the National Football League (NFL) to allow PE ownership of minority stakes in its teams is anticipated to boost total investment by PE firms in U.S. sports by $12 billion over time.

Nature of the Game … and the Investments

The predominate strategy of PE investors within the sports industry is to acquire minority stakes in teams. These investments allow investors to benefit from appreciation in team valuations without taking on full operational responsibilities. Firms such as Arctos Sports Partners have made significant investments in multiple NBA and MLB teams including the recent World Series Champions, the Los Angeles Dodgers. But, the playbook does not end there.

PE firms have evolved their approach, moving beyond merely acquiring stakes in teams to investing in sports-related media, technology, and infrastructure. This diversification strategy has enabled investors to gain broader exposure to the industry, spread their risk, and maximize returns. For example, Arctos Sports Partners invested in SeatGeek in 2022, a live-entertainment technology platform.

Although the inclusion of PE in sports is not new, it is very much still at the forefront of deal innovation. As firms seek to unlock additional value within the industry, the complexity of deals will also evolve. For example, Sixth Street Partners negotiated a joint-venture deal with premium experiences company, Legacy. This deal invested capital across Real Madrid C.F.’s activities in exchange for the right to participate in the operation and revenues of certain non-football related businesses of the Santiago Bernabéu Stadium over the span of twenty years. The evolution in deals mirrors the journey of a team building towards a championship. It requires patience, strategic planning, and a willingness to adapt to changing circumstances.

Heads or Tails: Two Sides of the Coin

PE involvement in sports brings both opportunities and challenges. While capital injection, professional management, and growth opportunities can significantly benefit sports franchises, the potential downsides of a focus on short-term returns, profit-driven decisions, increased debt financing, and fan discontent cannot be ignored. It is crucial to balance financial goals with the long-term health and success of sports teams, ensuring that the pursuit of financial gains does not overshadow the ultimate goal of being competitive and maintaining fan loyalty.

Just as a team benefits from a strong influx of new talent and resources, PE provides much-needed capital to sports franchises. Infusion of capital enables teams to invest in infrastructure, talent, and technology, akin to building state-of-the-art training facilities and recruiting top-tier players to enhance their competitiveness. Additionally, PE firms can provide professional management practices and strategic oversight, much like a seasoned coach who implements effective game plans and training regimens. This expertise can significantly improve the operational efficiency and profitability of sports teams, leading to better decision-making and long-term planning.

Moreover, PE involvement can open new revenue streams, similar to a team expanding its playbook to include innovative strategies that catch opponents off guard. Enhanced media rights deals, global marketing opportunities, and innovative fan engagement strategies can significantly boost the financial health of sports franchises.

However, much like how a team might struggle with a coach who focuses solely on short-term wins at the expense of long-term development, the nature of PE investments are short-term due to the limited life of traditional drawdown funds with a finite investment period of five to seven years. This focus on quick profits can conflict with the long-term interests of sports teams and their fans. Critics of PE’s involvement in sports are concerned that these profit-driven approaches could potentially undermine the integrity and competitive spirit of sports.

Additionally, PE investments often involve debt financing, which can increase the financial burden on sports franchises. This is comparable to a team taking on too many high-risk plays that could lead to significant losses if not executed perfectly. High levels of debt can be risky, especially if the expected revenue growth does not materialize, potentially leading to financial instability. Fans may also be wary of PE ownership as the focus on profits could lead to higher ticket prices, reduced investment in the team, or decisions that prioritize financial returns over fan experience and loyalty. Like other businesses, the benefits and consequences of PE involvement very much depend on the circumstances of the investments and the quality of the PE firm.

Portfolio Playbook

Investing in sports can be a strategic addition to a diversified investment portfolio. One of the primary reasons is the potential for uncorrelated, non-cyclical returns. This is largely due to loyalty of fan bases and steady revenue streams from media rights, sponsorships, and merchandise sales. Data from the Ross-Arctos Sports Franchise Index (RASFI), which tracks the aggregate valuation growth of the Big Four North American sports leagues (MLB, NBA, NFL, NHL), demonstrates the asset classes historical resilience in economic downturns. Since Q1 1961 the RASFI index has demonstrated an annualized return of 13.09% and volatility of 8.47%, compared to the U.S. equity market’s annualized return of 10.54% and volatility of 18.82%. This evidence underscores the potential that sports investments can yield higher returns with lower risk, making them a potential option to consider for certain investors looking to diversify their portfolios.

Notably, the RASFI index has returned approximately 1.97 times the S&P 500 since 2000. There are strong secular tailwinds that have, and continue to, make sports an attractive asset class to add to diversified portfolios. The increasing globalization of sports has expanded fan bases and revenue streams worldwide. Technological advancements are enhancing the viewing experience and engagement, driving higher demand for sports content. Additionally, the growing importance of live events in an era of on-demand entertainment underscores the unique value of sports. Demographic shifts, such as the rising disposable income and leisure spending among younger generations, further support the sector’s growth. PE firms, with their expertise and capital, are well-positioned to capitalize on these trends, making sports investments a compelling proposition for investors seeking growth and diversification.

Conclusion

The journey of PE in professional sports is a testament to the power of strategic evolution. Just as champions are made through years of dedication and hard work, PE’s rise in the sports industry has been a gradual process, marked by careful planning and execution. The nature of the investments being made, ranging from team ownership to infrastructure development, highlights the diverse opportunities within the sector. While the involvement of PE brings numerous benefits, such as increased financial stability and professional management, it also raises concerns about commercialization and the potential loss of traditional values. However, when balanced effectively, the pros can outweigh the cons, leading to a more robust and dynamic sports industry. Moreover, the additive nature of sports investments to portfolios cannot be overlooked. Sports assets may offer unique diversification benefits, combining emotional engagement with financial returns. As PE firms continue to recognize and capitalize on these opportunities, the future of sports looks evermore promising.